BEIRUT/MILAN, April 4 Despite their troubles
assembling a fully functional government, Lebanese authorities
are at last in a position to start tackling their patch of one
of the world's biggest and most politically divisive natural gas
frontiers.

Some also see proposed fiscal terms as tough, deterring
firms despite the prospect of major finds.

Some of Europe's biggest energy companies, including
Norway's Statoil and Italy's Eni, who
qualified for a long-delayed first licensing round, now show at
best lukewarm interest.

"Right now it's a very high risk investment," said Mariam
Al-Shamma, an analyst covering Lebanon with IHS Energy.

"We see the political situation on the trajectory towards
more destabilisation, so that's basically going to keep the
politics in turmoil pretty much as long as the war in Syria
keeps going."

Seated at the Mediterranean's eastern edge between Israel
and Syria, Lebanon offers major gas reserves yet also sits along
faultlines of intractable regional conflicts.

Officials have estimated it may have as much as 96 trillion
cubic feet of gas under its waters.

If proven, that would give it the world's 15th largest
reserves, according to BP's 2012 ranking of world gas holders -
although recoverable quantities are likely to be a fraction of
that given a lack of drilling data for Lebanon.

Still, even a portion of that would be transformative for a
country of about 4 million people which relies on expensive oil
imports, and may help it become a gas exporter given its limited
domestic demand.

Authorities are eager to develop the industry, which they
see as key to easing chronic debt and power outage problems.

In March, new Energy Minister Arthur Nazarian urged the
cabinet to approve decrees delineating blocks and specifying
contract terms - needed to start the bidding process - and vowed
political problems would not hold up his ministry.

BIDDING ROUND IN LIMBO

The eastern Mediterranean's energy potential has been a
source of excitement and speculation since Israel made major
finds in 2010.

Since then, Cyprus and even war-torn Syria have started
developing and auctioning their own concessions - Russian firm
Soyuzneftegaz won a deal on joint exploration of a Syrian block
in December - while Lebanon has lagged behind.

One of Lebanon's biggest problems is the political disarray
and paralysis stemming from its sectarian power-sharing system,
a legacy of its 1975-90 civil war.

From March 2013 to February 2014, politicians could not even
form a government, throwing the first licensing round into limbo
because the caretaker cabinet said it did not have the authority
to approve the necessary decrees.

The deadlock was broken after a long dispute over which
faction would get the energy portfolio, but the decrees have
still not been signed.

Ayham Kamel, an analyst at Eurasia Group, said the
attractiveness of potential blocks, even the most promising, is
incrementally decreasing for companies.

"I would say there are key junctures Lebanon has to go past
or key obstacles Lebanon has to overcome before this actually
becomes really a material prospect for IOCs (international oil
companies)," he said.

"Right now, it is simply an opportunity and nothing beyond
that."

BUTTER AND THE COW

There is also a lack of clarity about how much money there
is to be made from any gas they do find, industry sources said.

It is unclear, for instance, how much gas Lebanon would use
domestically and how much it would seek to export. Lebanon has
serious energy needs, yet its power plants do not use gas.

If it is exported, it is not clear what infrastructure it
would use and how much it would cost. Regional conflicts mean
joint ventures with Israel or Syria that could ease export costs
are out of the question.

One industry source who has looked at Lebanon said the tax
regime proposed by authorities, which would tax profits and
impose a four percent royalty on gas, seemed too high given the
risks.

"Right now they want to sell the butter and the cow. Instead
of reassuring the market about the political risks they have
freaked everyone out," the source said.

Indications the government wants to reserve the right to
bring in national oil companies to co-develop fields and that it
may impose a large local labour requirement have also worried
investors, the source said.

Yet Statoil told Reuters they would not take part. Shell,
Total and GDF Suez declined to comment on the round,
while it remains unclear if Eni will participate, a source close
to the company said.

SWITZERLAND OF THE MEDITERRANEAN?

Relations with Israel, with whom Lebanon is technically at
war, also pose problems. A dispute over the maritime border
could affect a number of blocks on offer and tensions could even
make it impossible for firms to work in both countries at once.

"The tensions between the two sides simply means that an
energy investor cannot be active both in Israel and in Lebanon
at the same time," said a source at Italy's Edison, which is in
talks to buy two Israeli fields.

The disputed region includes over 300 square miles and could
contain significant reserves given that it is near the centre of
the Levant Basin, according to the International Energy Agency.

Then there is Syria, Lebanon's historically dominant
neighbour which is mired in a three-year-old civil war that has
killed 150,000 people and forced millions to flee their homes.

Still, there is a glimmer of hope in that Lebanon's overall
risk rating by most measures is well below others in the region
such as Iraq or Iran.

"We're in Libya, Nigeria, Egypt," said one source at Eni.
"Lebanon is like the Switzerland of the Mediterranean compared
to that lot."
(Additional reporting by Stephen Jewkes; writing by Alexander
Dziadosz; editing by Jason Neely and David Evans)

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